EMRE DELİVELİ >Dra(ch)matic end to the Greek tragedy

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Recedingfears of a Greek sovereign default liftedmarkets on Friday even though not all the details on the Eurozone’s new€130 billion bailout package have been resolved.

Greecewill probably come to some sort of agreement with official and privatecreditors before its €14.5billion bond redemption on March 20. This would postpone a disorderlydefault and departure from the Eurozone, but some analysts have been arguingexit would be the best option, both for Greece and the currency zone.

Although he thinks there is a 50 percent chance the drachma will reappear overthe next 18 months, Citi chief economist Willem Buiter argues this wouldn't bevery “dra(ch)matic” for the rest of the Eurozone. For one thing, correlationsbetween the cost ofinsuringGreek debt and other peripheral countries have recently brokendown. This suggests that contagion may not spread.

Besides,Eurozone banks will have had plenty of time to cut their exposure. The secondround of theECB’s three-year loans and the recent relaxationof collateral rules should help as well.  As Greek PM Lucas Papademos lamentedrecently, “many in the Eurozone don’t want us anymore”. Maybe, that’s becauseEurozone officials now believe they can contain the consequences of a Greekexit.

Analystsare arguing that returning to the drachma would be beneficial for Greece as wellby allowing it to regain competitiveness through devaluation. An oft-givenexample is Argentina’s exit from its currency board in 2002 and the strongeconomic performance that followed.

Writingin this week’s Economist, Mario Blejer and Guillermo Ortiz, former central bankgovernors of Argentina and Mexico, argue that these viewsvastly understate the true cost for Argentina. They note the bank run thatfollowed and the renegotiation of contracts, which led to massive bankruptcies.They advise that it would be much better for Greece to remain in the Eurozone.

Thatmay not be possible even if Greece wants to stay. Bond investor PIMCO’s CEOMohamed El-Erian seesstrong similarities between the current mess and what was happening inArgentina in 2001, suggesting that the country is on the same path to defaultand chaos unless officials act fast.

Butneither the former central bank governors nor El-Erian is clear on exactly whatneeds to be done for Greece to stay in the Eurozone: They talk about reformsand institutional changes. This sounds awfully similar to Paul Krugman’s confidencefairy, the myth that fiscal austerity will solve all of Europe’s problemsby restoring confidence.

Blejerand Ortiz acknowledge that regaining competitiveness without devaluation isdifficult. Even after falling over the last two years, Greece's real exchangerate, based on unit labor costs, is still nearly 15 percent higher than adecade ago. Besides, the Greek economy has already contracted 16 percent sincethe beginning of the crisis, compared to Argentina's 20 percent and 29 percentin the US during the Great Depression. Greeks simply cannot take much more.

Maybe,Eurozone officials are just buying time and paving the way for an “orderly”default and exit for Greece, and markets are just dancingwhile the music is still playing.


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